March 13, 2014

It Takes Money to Make Money

"Where some people are very wealthy and others have nothing, the result will be either extreme democracy or absolute oligarchy, or despotism will come from either of those excesses." ~ Aristotle

If you don't have money, it's because you don't have money. A philosopher might call this circular reasoning; but it's scientific fact in the financial world, especially in the past five years.

According to the Federal Reserve, household wealth in the US is at a new record high of $80 trillion, most of which consists of stocks and home equity. Therefore the wealth that evaporated during and immediately following the Great Recession of 2007 to 2009 has been restored, at least in total.

In different words, those fortunates who still had equity of some kind five years ago (and haven't tapped into it since then) have a much higher net worth now than they did prior to 2009. In fact, equity levels in stocks and real estate have grown so much that even the vast number of people not participating in the economic recovery are no longer impacting the national totals negatively. The few pluses are so high that they outweigh the many negatives.

But who is participating in this record wealth?

One could label this financial phenomenon as an example of the "rich getting richer." This is not a moralistic statement but a simple observation of fact. Sure, there are certainly some examples of new wealth being created, but the record high for US household wealth, in total, is primarily a result of extreme growth for a minority and small to negative growth for the majority.

For example, as I write this, the bull market for stocks has turned 5 years old. If you had invested $100,000 in an S&P 500 Index Fund on March 9, 2009, your investment would now be worth over $340,000, assuming 5 years compounding interest at an annualized rate of 25% per year. This is outstanding and nearly unprecedented growth for stocks. But how many people had extra cash sitting around, or the capacity to pump money into their 401(k) plans, 5 years ago?

"The life of money-making is one undertaken under compulsion since wealth is not the good we are seeking and is merely useful for the sake of something else." ~ Aristotle, Nichomachean Ethics.

So it takes money to make money. This, of course, does not include the acquisition of money by means of earning it through a trade: making money is not the same as earning it.

A pure capitalist would disagree with Aristotle, when he says that money should not be used for the purpose of making more money. He would say that the best use of money is for the purpose of the exchange of goods and services but that the use of money for the sole purpose of making more money (i.e. investing and lending) is unnatural and can lead to the degradation of an individual’s character by making them desirous to continue accumulating money, furthermore causing the passions to blindly dominate their reason.

Similarly, the lack of money, especially in a capitalist society, can lead one to falsely beleive they are "behind" or that they are "less than" because they have not participated directly in the economic expansion of a nation. But where is the lesson here? Is there something wrong with making more money with the money you already have, while others are not?

My philosophical observation for this post is that money is not the root of all evil but rather the easiest way to lose oneself. Aristotle may not have been making a prediction about the potential negative outcome of using money for the sole purpose of making more money but he was correct: Financial wealth is not really "the good we are seeking" but it is rather a tool or a means to an end; and that end is to be free enough to be ourselves. But ironically it is difficult to "be yourself" when your first concern is with your money (or lack thereof).

More importantly, neither money nor life are zero sum games. If a billionaire is happy, it doesn't mean that a person with a negative net worth cannot be happy.

About Kent Thune

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